Geoffrey Richardson, CFA, manages portfolios of U.S. securities for European investors. His clients have differing tastes with respect to hedging exchange rate risk and the types of securities they hold. Henry Janssen is a Belgian investor who holds a large diversified portfolio of U.S. equities. Janssen has a reputation for some success in timing the U.S. equity market. For example, he has often locked in gains on his portfolio with derivatives shortly before a market correction. Sometimes he also hedges his portfolios currency risk. Janssen has just instructed Richardson to take a large short position in S&P 500 index, either with futures or with a forward contract. Richardson notices that the futures price is less than the current spot price and consults with his colleague Leritha Stuckwisch, CFA. Richardson says he thinks that the futures price is less than the spot price because the dividend yield of the S&P 500 is greater than the Treasury Bill rate. Stuckwisch says that it could just be backwardation. Stuckwisch also notes that the use of a forward contract might be a good idea because the contract will not attract the attention of other market participants who might react to Janssens move. Richardson tells Stuckwisch that the reason Janssen wants to hedge his equity position is that he thinks all U.S. interest rates will increase soon. This, he believes, is bearish for equities, and he also thinks the negative relationship between equity prices and interest rates makes a short forward contract more attractive than a short futures contract. Garego Szente is a Norwegian investor with a large investment in oil-related assets that he often hedges with futures contracts. Richardson notices that the price of the oil futures contract is usually higher than the spot price. Szente uses short-term borrowings in dollars, from both European and U.S. banks, to meet the liquidity needs of his oil investments, and he has Richardson hedge these short positions with Eurodollar futures. Stuckwisch suggests that Richardson should consider using T-bill futures to hedge the loans from U.S. banks, and use Eurodollar futures only for the Eurodollar loans. Richardson says he will look into that, as well as forward rate agreements, as alternative hedging tools for Szente.

8. If Richardson thinks that the S&P 500 index is negatively correlated with interest rates, then choosing the short forward contract over the short futures contract is:

A) counterproductive because a short futures contract would benefit more from a higher reinvestment rate.

B) counterproductive because a short futures contract would benefit more from a higher borrowing rate.

C) appropriate because the forward contract would benefit more from a higher reinvestment rate.

D) appropriate because the forward contract would benefit more from a lower borrowing rate.